In Animal Farm, George Orwell describes a Utopian society that slowly morphs into the evil farm that its founders initially rose up against. The Motley Fool’s latest advertisement, touting “255% Gains in Six Months,” is perhaps their "four legs good, two legs better" moment.
Motley Fool is a success story that has spawned books, radio, websites, and most recently, investment newsletters. The brothers Gardner (Motley Fool founders David & Tom) built a strong following upon a distinctly anti-establishment investment mantra: you don’t need Wall Street’s expensive yet mediocre advice. Theirs was a message of individual investor empowerment.
Much of the message centered around the belief that actively managed mutual funds were inferior to index funds, and investors could easily beat the lords of Wall Street with simple strategies like the Foolish Four – a sort of Dogs of the Dow system for success.
The Fools summed it up best in one of their many successful investment books, saying, “In our brief Foolish history, we’ve enabled thousands of average people who didn’t previously know a dividend from a divining rod to invest their own money without the help of Armani suits, and crush Wall Street at its own game.”
Somewhere along the way, however, things changed. The Fool's anti-Wall Street rhetoric was toned down. Some Foolish portfolios, including the early Foolish Four, were quietly closed for underperforming the market. The court jester hats came off on CNBC. The Motley Fool even launched a paid newsletter recommending – gasp! – actively managed mutual funds.
The Foolish Four was exterminated near the peak of the tech bubble after it underperformed the S&P 500. This was right around the time that value strategies began beating the market again. As it swept the Foolish Four under the rug, the Motley Fool switched its focus to more exciting portfolios, like the Rule Maker, which it launched in February 1998. Unlike the dividend-oriented Foolish Four, this portfolio contained exciting growth stocks, like Yahoo (YHOO), JDS Uniphase (JDSU), Intel (INTC), and Cisco (CSCO).
By early 2003, the Motley Fool had closed the Rule Maker Portfolio, since buying growth leaders was starting to appear as dumb as buying value stocks had been in 2000.
According to the Motley Fool, “The Rule Maker Portfolio has had a cumulative investment of $44,000. As of December 10, 2002, its current value of all cash and equities is $31,172.74. This equals an internal rate of return of -11.0% since the launch of the portfolio in February 1998.” Too bad they didn’t hang onto the Foolish Four…
This pattern of closing mutual funds that fall on hard times in order to focus on the good stuff looks strangely familiar. That's because it's the same strategy used by the very mutual funds that the Motley Fool used to ridicule. With mutual funds, this cleansing process is called survivorship bias. This trick-of-the-trade is why many fund companies appear to hold only decent funds in their roster. The Merrill Lynch Internet Strategies Funds of the world are effectively deleted from history.
One thing the Motley Fool does today that mutual funds are not allowed to do is cherry pick performance information in order to market their wares. Of course, the Motley Fool is not alone here. Virtually all investment newsletters tout their spectacular returns through methodologies that would make a mutual fund marketer blush. But because everybody is doing it, selling an investment newsletter without such circus barker-grade promotion is nearly impossible.
The status quo only excuses so much, however. In its latest advertisement, the Motley Fool notes, "David’s #1 stock nabbed 255% gains in six months and is still going strong. Tom’s top stock returned 589%. 26 of their picks have doubled or more."
If mutual funds were allowed to advertise in this way, the Vanguard 500 Index fund (VFINX) could brag, "151% in 2006, 127% in 2005, 208% in 2004, 428% in 2003! This is how our top performers have performed in recent years. Find out how we beat other experts' picks by a country mile in our new prospectus - yours FREE if you act now. We’ll even throw in our new semi-annual report so you can see our current top picks!"
This ad would be accurate (but misleading), as these returns are merely the best performers from the S&P 500 over the last four calendar years, respectively: Allegheny Technologies (ATI), Valero Energy (VLO), Autodesk (ADSK), and Avaya (AV).
We’re not claiming that investors following this particular Motley Fool newsletter didn’t beat the S&P 500 in recent years. In fact, the Motley Fool prints some of the better investment newsletters out there. Just keep in mind that most stock funds beat the S&P 500 in recent years because the large cap growth stocks that dominated the S&P 500 in the late 90's have been out of favor for much of the new decade (as followers of the Rule Maker’s portfolio learned the hard way…) Also keep in mind that performance comes and goes, and newsletter performance records have been no more predictive of future returns than mutual fund records have.
For example, over the last five years, the Jacob Internet Fund (JAMFX) has beaten both the S&P 500 and the hot annual returns quoted by the Motley Fool for the newsletter in question – and this was a ridiculed mutual fund five years ago, that is, right before it got hot again.
What we are saying is this: the Motley Fool has nearly morphed into what it most hated about Wall Street – the message to pay up for and respect our investment genius, look at our expensive suits, pay no attention to the man behind the curtain…
On that last point, it’s interesting to note that the Motley Fool home page now displays a variety of Motley Fool experts including the brothers Gardner wearing pinstriped suits (but no jester hats) and selling their expert advice. Contrast that to the Goldman Sachs (GS) website, on which the firm profiles some of their people. No suits. A few sweaters. Even one red tank top. This, from the #1 investment bank at the top of the Wall Street game. How the tables have turned. In Animal Farm, the pigs maintained leadership with exaggerated stories of how bad the other choice for leadership – humans – were.
We’ve got nothing against changing your strategies as time passes, or even selling what used to be free – Lord knows, we’ve done it. There's nothing wrong with trying to make money running the farm – Goldman Sachs sure does. But when you come across investment pitches, make like the original Motley Fool followers (as was one of our cofounders), and be wary of too-good-to-be-true pitches for help from men in fancy suits.
In Animal Farm, George Orwell describes a Utopian society that slowly morphs into the evil farm that its founders initially rose up against. The Motley Fool’s latest advertisement, touting “255% Gains in Six Months,” is perhaps their "four legs good, two legs better" moment.
Motley Fool is a success story that has spawned books, radio, websites, and most recently, investment newsletters. The brothers Gardner (Motley Fool founders David & Tom) built a strong following upon a distinctly anti-establishment investment mantra: you don’t need Wall Street’s expensive yet mediocre advice. Theirs was a message of individual investor empowerment.
Much of the message centered around the belief that actively managed mutual funds were inferior to index funds, and investors could easily beat the lords of Wall Street with simple strategies like the Foolish Four – a sort of Dogs of the Dow system for success.
The Fools summed it up best in one of their many successful investment books, saying, “In our brief Foolish history, we’ve enabled thousands of average people who didn’t previously know a dividend from a divining rod to invest their own money without the help of Armani suits, and crush Wall Street at its own game.”
Somewhere along the way, however, things changed. The Fool's anti-Wall Street rhetoric was toned down. Some Foolish portfolios, including the early Foolish Four, were quietly closed for underperforming the market. The court jester hats came off on CNBC. The Motley Fool even launched a paid newsletter recommending – gasp! – actively managed mutual funds.
The Foolish Four was exterminated near the peak of the tech bubble after it underperformed the S&P 500. This was right around the time that value strategies began beating the market again. As it swept the Foolish Four under the rug, the Motley Fool switched its focus to more exciting portfolios, like the Rule Maker, which it launched in February 1998. Unlike the dividend-oriented Foolish Four, this portfolio contained exciting growth stocks, like Yahoo (YHOO), JDS Uniphase (JDSU), Intel (INTC), and Cisco (CSCO).
By early 2003, the Motley Fool had closed the Rule Maker Portfolio, since buying growth leaders was starting to appear as dumb as buying value stocks had been in 2000.
According to the Motley Fool, “The Rule Maker Portfolio has had a cumulative investment of $44,000. As of December 10, 2002, its current value of all cash and equities is $31,172.74. This equals an internal rate of return of -11.0% since the launch of the portfolio in February 1998.” Too bad they didn’t hang onto the Foolish Four…
This pattern of closing mutual funds that fall on hard times in order to focus on the good stuff looks strangely familiar. That's because it's the same strategy used by the very mutual funds that the Motley Fool used to ridicule. With mutual funds, this cleansing process is called survivorship bias. This trick-of-the-trade is why many fund companies appear to hold only decent funds in their roster. The Merrill Lynch Internet Strategies Funds of the world are effectively deleted from history.
One thing the Motley Fool does today that mutual funds are not allowed to do is cherry pick performance information in order to market their wares. Of course, the Motley Fool is not alone here. Virtually all investment newsletters tout their spectacular returns through methodologies that would make a mutual fund marketer blush. But because everybody is doing it, selling an investment newsletter without such circus barker-grade promotion is nearly impossible.
If mutual funds were allowed to advertise in this way, the Vanguard 500 Index fund (VFINX) could brag, "151% in 2006, 127% in 2005, 208% in 2004, 428% in 2003! This is how our top performers have performed in recent years. Find out how we beat other experts' picks by a country mile in our new prospectus - yours FREE if you act now. We’ll even throw in our new semi-annual report so you can see our current top picks!"
This ad would be accurate (but misleading), as these returns are merely the best performers from the S&P 500 over the last four calendar years, respectively: Allegheny Technologies (ATI), Valero Energy (VLO), Autodesk (ADSK), and Avaya (AV).
For example, over the last five years, the Jacob Internet Fund (JAMFX) has beaten both the S&P 500 and the hot annual returns quoted by the Motley Fool for the newsletter in question – and this was a ridiculed mutual fund five years ago, that is, right before it got hot again.
What we are saying is this: the Motley Fool has nearly morphed into what it most hated about Wall Street – the message to pay up for and respect our investment genius, look at our expensive suits, pay no attention to the man behind the curtain…
On that last point, it’s interesting to note that the Motley Fool home page now displays a variety of Motley Fool experts including the brothers Gardner wearing pinstriped suits (but no jester hats) and selling their expert advice. Contrast that to the Goldman Sachs (GS) website, on which the firm profiles some of their people. No suits. A few sweaters. Even one red tank top. This, from the #1 investment bank at the top of the Wall Street game. How the tables have turned. In Animal Farm, the pigs maintained leadership with exaggerated stories of how bad the other choice for leadership – humans – were.
We’ve got nothing against changing your strategies as time passes, or even selling what used to be free – Lord knows, we’ve done it. There's nothing wrong with trying to make money running the farm – Goldman Sachs sure does. But when you come across investment pitches, make like the original Motley Fool followers (as was one of our cofounders), and be wary of too-good-to-be-true pitches for help from men in fancy suits.